It was Robert Rubin, Treasury Secretary under Bill Clinton, who opined that a strong dollar was in the best interests of the United States of America. It was that philosophy which has continued to reign in markets – even during the worst days of the “Great Recession” of 2008 – 2009. The dollar is the world’s “reserve currency”. This special position in the world’s monetary affairs has proffered the U.S. unique advantages which no other country possesses. Being the world’s reserve currency has afforded America an economic status which is superior to all other nations. It allows the U.S. to sell its debt to finance its societal ambitions almost without regard to reasonable economic constraints. There has always been a market for U.S. Treasuries and to this day there is always a market for those securities. Will it be so in the future? This is the question.
Today there are serious efforts by other nations to undermine the dollar’s reserve currency status. There have been attempts in the past to use baskets of currencies in order to conduct international trade. The Arabs tried such a ploy during the oil embargo during the 1970’s – but to no avail. At that time, there was no other economy in the world able to challenge the depth and the breadth of the American economy. So the project was doomed from the start. Nevertheless, an attempt was made – as one is now being made. The difference this time is that there are economies, while not as large, diverse and deep as the U.S., that have some real “heft”. We are speaking of the Eurozone and China. Not only do these economic zones have substance, they also have sophistication. They have learned from their American mentors.
The “spark” for circumventing the dollar this time started with the Iran nuclear deal. America wanted out and got out. The Eurozone wanted to keep the deal as did the Chinese. The U.S. threatened any company that continued to deal with Iran with sanctions and has threatened to isolate countries with expulsion from the SWIFT system – a global payments system, denominated in dollars, which is key to international trade. Infuriated, the Europeans and the Chinese have started work on an alternative payments system called INSTEX. The U.S. has threatened to shut that down. How, we are not exactly clear. But as the U.S. is still the “king” of finance in this world, the threat should be taken seriously. The world is tiring of being bullied by America. Using its financial might as a “political club” might get the US an immediate win – but these actions risk long term significant economic damage as America might lose its privileged position as the issuer of the world’s reserve currency.
So what? What exactly would it mean to no longer ”own” the world’s reserve currency? In short, it would mean that U.S. deficit spending would no longer be tolerated as it is today. It would mean that our national finances would be scrutinized as every other countries’. We would no longer have the flexibility to do what we want when we want because America will have lost investor goodwill, which does not question today the credit worthiness of the U.S., no matter how big the deficit spending. Losing currency reserve status, a very special “club” of one, would mean that America will be like other countries and will have to compete for investor funds – something the US does not have to do now. Using the dollar as a political weapon means abusing our reserve currency status at our own risk with very unpleasant results.